Auction Rate Securities Update
If you own auction rate securities, you may wind up holding on to them a lot longer than first envisioned. Auction rate securities, which were generally sold as liquid money market or cash equivalents, may now be long-term investments. Most of the auction rate securities market has been frozen since mid-February. To compound the problem, municipalities, non-profits, mutual fund companies, and other issuers have no obligation to redeem the auction rate securities, even though these were sold as safe and liquid as money market funds, according to Bloomberg.com.
Prior to late last summer auctions had rarely failed during the past twenty years. The auction rate market grew rapidly to the point where Bank of America Corp. estimates it is currently worth $330 billion. Of that amount, approximately $60 billion was sold by closed-end funds and most of the remainder by municipalities and non-profit organizations.
The auction rate freeze has far-reaching implications for thousands of small companies and individuals. As reported by Rebecca Buckman in the Wall Street Journal, Silicon Valley start-up companies are starting to feel the pinch. Many of these closely held companies had placed their cash into auction-rate instruments believing that these securities were safe and nearly the same as cash. Then when they needed the money to make payroll or fund operations they found they couldn’t get it. Similarly, many individual investors have placed tax monies, retirement funds and “rainy day” funds in auction rate securities only to find these funds frozen. In many cases, this can result in serious financial hardship to such individuals.
For the week ending March 28 more than 71 percent of the auctions failed, based on data compiled by Bloomberg. There have been hundreds of auction failures each day since February 13. Meanwhile, auction rates rose to 6.73 percent in March compared to an average of 3.94 percent for 2007 and significantly increased the cost for many state and municipality issuers.
Many issuers are desperately trying to find solutions. Florida’s largest property insurer, Citizen’s Property Insurance Corp., approved plans to refinance some of its $4.5 billion of auction securities with fixed-rate bonds and variable-rate demand notes, according to Jeremy Cooke of Bloomberg.com. Many other state and municipality issuers are trying to exit the auction rate securities markets by refinancing their debt. Several closed-end bond funds are attempting to redeem preferred shares. Calamos (5 funds), ING (2 funds), Nuveen Investments (13 funds), and Eaton Vance Corp. (3 funds) have announced they intend to buy back at least some of their auction rate preferred shares.
State, municipal and non-profit issuers are getting slammed because, when their auctions fail, they are forced to pay interest at much higher default rates. For example, New Hampshire has been forced to use its reserves to cover the more than $1 million in extra borrowing costs attributable to the auction market freeze. As reported in Bloomberg.com, Ken Cody, associate vice chancellor of finance for New Hampshire’s state college and university system, said, “It hurts. We have very limited resources.”
As a result of the auction rate securities debacle, regulators are beginning to investigate. The Massachusetts Secretary of State just commenced such an investigation into the practices of Merrill Lynch, UBS, and Bank of America.
Investors in auction rate securities need to carefully monitor the market and their specific holdings. Many investors are likely to sustain damage as a result of these investments and will have legal claims which they may elect to pursue. Accordingly, investors should maintain careful records of any direct (e.g. loss of value of investment) or indirect (e.g. tax penalties, lost opportunities) harm they sustain as a result of these investments. Investors who have discovered that they own something they didn’t want to own should also consider placing open sell orders on such securities or seeing if they can be sold in secondary markets unless some likelihood of refinancing by the issuer exists. If the market remains frozen much longer, investors that want to pursue claims should contact counsel.
Page Perry, LLC is an Atlanta-based law firm with over 125 years collective experience representing investors in securities-related litigation and arbitration. While past results are not indicative of future success, Page Perry’s attorneys have recovered over $1,000,000 for clients on more than 30 occasions. Page Perry’s attorneys are actively involved in representing individual and institutional investors regarding their auction rate securities problems. For further information, please contact us.
